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Italy’s bond market, the fourth largest in the world, suffered one of its deepest falls since the darkest days of the European debt crisis as the prospect of a resounding populist victory in the next election sinks in with investors.

With the yields on Italian 2-year and 10-year bonds soaring (yields and prices go in the opposite direction), some economists were saying on Tuesday that Italy now faces serious financial and economic difficulties that could rattle Europe to the core. In a note, Kit Juckes of the French bank Société Générale said “we should now call this a crisis.”

By midmorning Tuesday, two days after Italian president Sergio Mattarella scuppered the proposed appointment of an avowed euroskeptic as the finance minister in the then-incoming populist government, Italian 10-year bold yields at one point climbed 67 basis points to 3.33 per cent, taking their one-month climb to a hefty 160 basis points – a rise rarely seen in the bond world (100 basis points equals one percentage point).

The yield rise was the largest single-day increase on record for the 10-year bonds. The yields later fell back somewhat.

The yields on Italian two-year bonds saw a far bigger relative rise. Their yields blasted through 2 per cent for the first time 2013, reaching 2.44 per cent at one point. That was up more than 150 basis points over Monday’s closing price.

In a flight to safety as political and financial risk suddenly swamped Italy, the prices of German, British, Dutch and Swiss bonds climbed.

The alarming speed of the Italian sell-off spooked the wider markets. The bond yields of Spain, Portugal and Greece also rose sharply and the euro fell 0.65 per cent against the dollar. The Milan bourse and the FTSE-100 were also down, as was Germany’s DAX index.

Spain’s 10-year bond yields rose 12 basis points, to 1.62 per cent, partly because Spain is going through its own political crisis. Prime minister Mariano Rajoy faces a vote of confidence on his leadership on Friday as dozens of people linked to his centre-right party face corruption convictions. If he loses the confidence vote, Spain probably would face snap elections.

Neil Wilson, chief market analyst at, said investors were clearly steering clear of Italy. In a note, he said “the moves this morning warrant attention as we are seeing some incredible price action in Italian bonds with the market moving at speeds not seen since the worst of the euro zone debt crisis.”

He added that the Italian sell-off can only ensure that “contagion risks mount.”

A new Italian election was assured on Sunday, when Mr. Mattarella rejected Paolo Savona as finance minister. Mr. Savona, who calls the euro a “straitjacket produced in Germany,” was the candidate put forward by the populist coalition of the Five Star Movement (M5S) and the League, the two anti-establishment parties that gained the most votes in the March election and agreed to form a government.

Mr. Mattarella, as head of state, has the power to approve cabinet ministers. He rejected Mr. Savona because he considered his euroskeptic views a threat to Italy’s use of the euro and the overall integrity of the euro zone.

After he turned down Mr. Savona’s nomination, the leaders of M5S and the League, Luigi Di Maio and Matteo Salvini, respectively, pulled the plug on their government only days before it was to be inaugurated in parliament. That left Mr. Mattarella no choice but to appoint an interim prime minister in a hurry. He is Carlo Cottarelli, 63, a former high-ranking International Monetary Fund official who oversaw an Italian government spending review a few years ago.

Mr. Cottarelli is trying to form a cabinet and keep a caretaker government intact until early next year. But M5S and the League, which have a small majority in both houses of parliament, will almost certainly deny him a vote of confidence, triggering early elections which the populist may well win. The popularity of Mr. Salvini is surging and the centrist parties – the Democratic Party and Silvio Berlusconi’s Forza Italia – are in a shambles after their poor showing in March.

Mr. Salvini argued for years that the euro was a mistake and said that Italy should leave the common currency. While that view was officially dropped ahead of the election, he is no fan of either the European Union or the euro and campaigned on an “Italians first” platform.

The election could be as early as September.

“Anti-euro sentiment is growing in Italy and this has shaken investor confidence,” said David Madden, market analysts at CMC Markets UK.

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